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Blanche Lincoln to get tough on derivatives?

lincolnderivs.JPGContrary to most everyone's expectations, Blanche Lincoln appears to be developing, well, a really strong set of regulations on derivatives.

According to Politico, she dropped her efforts to cooperate with Sen. Saxby Chambliss (R-Ga.) after he balked at putting standardized derivatives on exchanges. The language she's preparing is now stronger than what appeared in the House bill, the Dodd bill or even the administration's own proposal. Her proposal will regulate foreign currency swaps, which the Treasury Department has opposed, bar "major swaps dealers" from receiving federal financial assistance in the event of a meltdown, and open derivatives dealers to fraud prosecution if they knew their deal could defraud the public.

“Proposals that I have seen from the administration have not gone far enough to prevent bailouts of ‘too big to fail institutions’ and could contain loopholes," Lincoln said. "If we pass reform, it needs to be real reform. My proposal will go further than any other congressional or administration proposal to prevent future bailouts.”

Final judgment will have to wait until we see the actual language, of course. But this is very encouraging, and very unexpected.

Photo credit: Brendan Hoffman/Bloomberg

By Ezra Klein  |  April 13, 2010; 5:33 PM ET
Categories:  Financial Regulation  
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Comments

I think Blanche may be on the right track.

I wonder how McConnell is going to argue that "Proposals that I have seen from the administration have not gone far enough to prevent bailouts of ‘too big to fail institutions’" is somehow advocating for more big tax payer bailouts of Wall Street.

Posted by: Kevin_Willis | April 13, 2010 5:56 PM | Report abuse

If this is true, you can thank the primary challenge by Bill Halter, methinks.

Posted by: seraphina2 | April 13, 2010 5:58 PM | Report abuse

For those of us who have been eagerly following you on HCR, but have not been closely following FinReg - have you seen anything that would serve as a good introduction or overview for the topic, so that we can get up-to-date and continue reading your blog? If you could post a link or think-tank article to such a resource, I think it would be very helpful to a number of your devoted followers!

Posted by: ajh2003 | April 13, 2010 6:05 PM | Report abuse

Blanche has a long history of offering populist legislation when she knows it has no hope of passing, or won't make any difference. This is par for the course.

Posted by: bmull | April 13, 2010 8:43 PM | Report abuse

This may be a smokescreen. The key here may not be so much the exact strictness of regulation, but rather the thoroughness of their coverage. Lincoln would leave out of the coverage of regulation lots of putative "end users" who she imagines will not engage in speculation. But lots of informed folks (including, I think, the administration), think this renders the regulation ineffective -- exceptions big enough to drive a truck through are the words I've read.

Posted by: David_in_NY | April 13, 2010 9:42 PM | Report abuse

Does her heavy restrictions on 'swaps' include interest rate swaps? Banks make use of these derivatives to manage their interest rate risk exposure, which is important in case there is a sudden shift in rates. Eliminating the ability to do so is likely to increase the risk of bank failures.

A few comments on some of these points:

"— second, Lincoln would bar any “major swaps dealers,” including big banks, from receiving federal financial assistance in the event of a market meltdown;"

So banks can choose to continue dealing in credit default swaps, and if the market meltsdown the Federal government does what, let's them go the way of Lehman? I somehow doubt it. I can't envision any central banker or Treasury secretary who wants to preside over the next Lehman. They will find a way around this.

"— third, the Arkansas Democrat would require dealers to consider their “fiduciary duty” to all governmental agencies, pension plans, endowments or retirement funds during any transaction;"

Cute, meaningless verbiage. Another multiple choice question on the CFA, perhaps.

Seriously, some of this FinReg and being 'tough on the banks' is no different than politicians fighting drugs to show they are 'tough on crime' despite the fact that the drug war has failed with all sorts of collateral damage.

Does Lincoln's plan propose a cap on the size of banks? Contingent debt? A real down payment requirement for a house? Exchange traded CDS is all well and good but the rest of what I've seen is weak or counterproductive.

Posted by: justin84 | April 13, 2010 10:55 PM | Report abuse

In any case, FinReg should be robust to failure. We can't anticipate what the financial crisis of 2030 is going to look like. It may involve products that haven't been dreamt up, and which aren't regulated, or perhaps it may be an existing product which isn't seeing much action (say, a reverse mortgage boom as the baby boomers retiring blows up), or it might be a regular run of the mill financial panic in which regulated products were involved but the regulators fell asleep at the switch. Who knows.

I see two options.

The radical option is Kotlikoff's Limited Purpose Banking, basically a narrow bank solution. Financial institutions aren't allowed to take risk - they make loans, but then these loans are evaluated by a federal financial authority and sold to the public.

The other option is to rely on contingent debt - debt which converts to equity if a bank is running low on capital. Instead of trying to anticipate and block every possible problem via regulation, this lets private actors with their own money at stake police financial institutions - and if these actors screw up, then its their (private) money that recapitalizes the banks.

There could be more options, but heavy handed line-by-line regulations are almost certainly not the best way to go about FinReg.

Posted by: justin84 | April 13, 2010 11:17 PM | Report abuse

I hope she's doing this because it's the right thing, and for something this important it's worth losing a reddish purple Senate seat to really do it well, in such a way that it will stabilize the financial system for decades as the Democrats did in the 1930s, ushering in the Great Moderation and a period of unprecedented high growth evenly distributed.

But, could this also be the best thing to do politically?

An interesting analogy is the end of a basketball or hockey game when one team is far behind. If they play it conventional, they lose for sure, so they follow a risky strategy as their best chance, like pulling the goalie or fouling a lot.

Playing it safe and conventional may mean a very likely loss for Lincoln. Going really hard at Wall Street may ignite the public, especially with so much economic suffering in this recession, and mean a lot of support from Democratic donors and organizations. It may be her best shot at pulling this out in a very difficult state for Democrats at this time.

Let's hope the Democratic Party really encourages and supports her in this.

Posted by: RichardHSerlin | April 14, 2010 3:33 AM | Report abuse

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